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WS AND REGULATIONS
Crypto Laws and Regulations
Last Updated: December 20, 2021
See here 2021-2024 Update

Securities Act of 1933

 

The Securities Act serves the dual purpose of ensuring that issuers selling securities to the public disclose material information, and that securities transactions are not based on fraudulent information or practices. The goal is to provide investors with accurate information so that they can make informed investment decisions.

The Securities Act effectuates disclosure through a mandatory registration process in a sale of any securities. Due to a number of exemptions (for trading on the secondary market and small offerings), the Act is mainly applied to primary market offerings by issuers.

Provisions of Section 17(a) of the Securities Act of 1933, Section 10(b) and Rule 10b-5 of the Securities Exchange Act of 1934 that require issuers to make certain required disclosures to investors when offering and selling securities, are referred to as Anti-fraud provisions. Additionally, each state has its own securities fraud provisions. The anti-fraud provisions prohibit the making of a misstatement or omission of a material fact in connection with an offering of securities. The company and its officers and directors can be held liable for violations.

Securities Exchange Act of 1934

The Securities and Exchange Act of 1934  primarily regulates transactions of securities in the secondary market. As such, the 1934 Act typically governs transactions which take place between parties which are not the original issuer, such as trades that retail investors execute through brokerage companies.

Section 4 of the Exchange Act established the Securities and Exchange Commission (SEC), which is the federal agency responsible for enforcing securities laws.

The Securities Exchange Act requires disclosure of important information by anyone seeking to acquire more than 5 percent of a company's securities by direct purchase or tender offer. Such an offer often is extended in an effort to gain control of the company.

If a party makes a tender offer, the Williams Act governs. The Williams Act is codified as 15 U.S.C. § 78m(d)-(e).

A tender offeror must also file disclosure documents with the SEC that disclose its future plans relating to its holdings in the company This information allows investors to decide whether to sell or not.

Investment Company Act of 1940

This Act regulates the organization of companies, including mutual funds, that engage primarily in investing, reinvesting, and trading in securities, and whose own securities are offered to the investing public. The Act requires these companies to disclose their financial condition and investment policies to investors when stock is initially sold and, subsequently, on a regular basis. The focus of this Act is on disclosure to the investing public of information about the fund and its investment objectives, as well as on investment company structure and operations. It is important to remember that the Act does not permit the SEC to directly supervise the investment decisions or activities of these companies or judge the merits of their investments.

The SEC states: "Private funds are pooled investment vehicles that are excluded from the definition of investment company under the Investment Company Act of 1940 by section 3(c)(1) or 3(c)(7) of that Act. The term private fund generally includes hedge funds and private equity funds.

Historically, many of the investment advisers to private funds had been exempt from registration with the SEC under the so-called “private adviser” exemption. The Dodd-Frank Act replaced the old “private adviser” exemption with narrower exemptions for advisers that advise exclusively venture capital funds and advisers solely to private funds with less than $150 million in assets under management in the United States. As a result of the Dodd-Frank Act, many previously unregistered advisers to private funds were required to register with the SEC or the states.

Investment advisers to private funds use Form ADV to register with the SEC and/or certain state securities authorities. Investment advisers to private funds must report on Form ADV general information about private funds that they manage, including basic organizational and operational information as well as information about the fund’s key service providers.

SEC-registered investment advisers with at least $150 million in private funds assets under management use Form PF to report, on a non-public basis, information about the private funds that they manage. Most advisers file Form PF annually to report general information such as the types of private funds advised (e.g., hedge funds or private equity), each fund’s size, leverage, liquidity and types of investors. Certain larger advisers provide more information on a more frequent basis (including more detailed information on certain larger funds)."

1936 Commodity Exchange Act

 

Prohibits fraudulent practices in trading futures contracts and other commodity derivatives, and provides for regulation of the managed futures industry. Under this Act, the CFTC has authority to establish regulations that are published in title 17 of the Code of Federal Regulations. A Crypto Hedge Fund manager trading in commodities or futures must comply with the Commodities Exchange Act. Bitcoin and Etherium were deemed commodities by the SEC.

1940 Investment Advisers Act

 

Regulates investment advisers. With certain exceptions, this Act requires that firms or sole practitioners compensated for advising others about securities investments must register with the SEC and conform to regulations designed to protect investors. Since the Act was amended in 1996 and 2010, generally only advisers who have at least $100 million of assets under management or advise a registered investment company must register with the Commission.

 

Other investment advisers typically register with the state in which the investment adviser maintains its principal place of business. With the exception of Wyoming, each state has its own version of the Investment Advisers Act. Crypto Hedge Fund managers that invest in securities must comply with federal and state investment advisers act statutes.

Section 205(a)(1) of The Act prohibits IAR from receiving any compensation “on the basis of a share of capital gains upon or capital appreciation of the funds or any portion of the funds of the client,” and applies solely to “registered or required to be registered with the SEC” investment advisers. An ERA is exempt from registration and is not a registered investment adviser.

Under Section 205-3(b), an adviser that manages a private investment fund under the exemption from registration under the Investment Company Act in Section 3(c)(1) must “look through” the fund to determine whether all investors in the fund who are charged a performance are qualified clients. However, this rule applies to registered or required to be registered investment advisers.

Due to large discrepancies in states' versions of this Act, ERAs in New York can charge both Accredited Investors and Qualified Clients a performance-based fees. However, ERAs in CA, TX, VA, MI, etc. can only receive such fees from Qualified Clients.

Currency and Financial Transactions Reporting Act of 1970, as amended by Title III of the USA PATRIOT Act of 2001.

Bank Secrecy Act of 1970

 

The Bank Secrecy Act is codified at 31 U.S.C. §§ 5311 et seq, establishes the basic framework for AML obligations imposed on financial institutions: program, recordkeeping and reporting requirements for national banks, federal savings associations, federal branches and agencies of foreign banks. The BSA was amended to incorporate the provisions of the USA PATRIOT Act which requires every bank to adopt a customer identification program as part of its BSA compliance program.

Procedures for Monitoring BSA Compliance- 12 CFR 21.21- require every national bank and savings association to have a written, board approved program that is reasonably designed to assure and monitor compliance with the BSA. The program must, at a minimum:

  1. provide for a system of internal controls to assure ongoing compliance;

  2. provide for independent testing for compliance;

  3. designate an individual responsible for coordinating and monitoring day-to-day compliance; and

  4. provide training for appropriate personnel. In addition, the implementing regulation for section 326 of the PATRIOT Act requires that every bank adopt a customer identification program as part of its BSA compliance program.

12 CFR 21.11 and 12 CFR 163.180 require every national bank to file a Suspicious Activity Report (SAR) when they detect certain known or suspected violations of federal law or suspicious transactions related to a money laundering activity or a violation of the BSA. A SAR filing is required for any potential crimes:

  1. involving insider abuse regardless of the dollar amount;

  2. where there is an identifiable suspect and the transaction involves $5,000 or more; and

  3. where there is no identifiable suspect and the transaction involves $25,000 or more. A SAR filing also is required in the case of suspicious activity that is indicative of potential money laundering or BSA violations and the transaction involves $5,000 or more.

Section 5318A of the Bank Secrecy Act, as added by section 311 of the USA PATRIOT Act, authorizes the Secretary of the Treasury to designate a foreign jurisdiction, institution, class of transaction, or type of account as being of "primary money-laundering concern," and to impose one or more of five "special measures."

BSA-related reporting requirements for national banks and savings associations are administered by the US Department of Treasury's Financial Crimes Enforcement Network (FinCEN). Financial institutions must file reports electronically through the BSA E-Filing System.

  • Currency Transaction Report (CTR)

  • Report of International Transportation of Currency or Monetary Instruments (CMIR)

  • Report of Foreign Bank and Financial Accounts (FBAR)

  • Suspicious Activity Report (SAR)

  • Designation of Exempt Person Form.

 

1996 National Securities Markets Improvement Act

 

NSMIA was passed by congress to simplify earlier security acts to create one standard code for all companies and regulators. NSMIA preempts offerings made in reliance of Rule 506 from state securities registration regulation.

2001 USA PATRIOT Act

The USA PATRIOT Act was enacted by Congress in 2001 in response to the terrorist attacks on September 11, 2001. Among other things, the USA PATRIOT Act amended the BSA. It imposed a number of AML obligations directly on broker-dealers, including:

  • AML compliance programs;

  • customer identification programs;

  • obtaining beneficial ownership information and customer due diligence;

  • monitoring, detecting, and filing reports of suspicious activity;

  • due diligence on foreign correspondent accounts, including prohibitions on transactions with foreign shell banks;

  • due diligence on private banking accounts;

  • mandatory information-sharing (in response to requests by federal law enforcement); and

  • compliance with “special measures” imposed by the Secretary of the Treasury to address particular AML concerns.

Section 326 of the USA PATRIOT Act amended the BSA to require financial institutions establish written customer identification programs (CIP). FinCEN’s implementing rule requires a broker-dealer’s CIP to include, at a minimum, procedures for:

  • obtaining customer identifying information from each customer prior to account opening;

  • verifying the identity of each customer, to the extent reasonable and practicable, within a reasonable time before or after account opening;

  • making and maintaining a record of information obtained relating to identity verification;

  • determining within a reasonable time after account opening or earlier whether a customer appears on any list of known or suspected terrorist organizations designated by Treasury;[2] and

  • providing each customer with adequate notice, prior to opening an account, that information is being requested to verify the customer’s identity.

The CIP rule provides that, under certain defined circumstances, broker-dealers may rely on another financial institution to fulfill some or all of the requirements of the broker-dealer’s CIP. For example, in order for a broker-dealer to rely on the other financial institution the reliance must be reasonable. The other financial institution also must be subject to an AML compliance program rule and be regulated by a federal functional regulator. The broker-dealer and other financial institution must enter into a contract and the other financial institutions must certify annually to the broker-dealer that it has implemented an AML program. The other financial institution must also certify to the broker-dealer that the financial institution will perform the specified requirements of the broker-dealer’s CIP.

Covered financial institutions are required to establish and maintain written procedures that are reasonably designed to identify and verify beneficial owners of legal entity customers and to include such procedures in their anti-money laundering compliance program required under 31 U.S.C. 5318(h) and its implementing regulations.

Source Documents:

FINRA AML Compliance Rules and Related Guidance

2010 Dodd-Frank Wall Street Reform and Consumer Protection Act

 

The Dodd-Frank Wall Street Reform and Consumer Protection Act is a federal law enacted in 2010. The Dodd-Frank Act brought sweeping changes to financial regulation affecting almost every component of the financial services industry. The most monumental change for hedge fund regulation was an enactment found in Title IV, requiring certain previously exempt investment advisers to register under the Investment Advisers Act. Regulation resulting from Dodd-Frank also made changes to the definition of investor suitability standards of an “accredited investor” and a “qualified client.”

The Dodd-Frank Act replaced the old “private adviser” exemption with narrower exemptions for advisers that advise exclusively venture capital funds and advisers solely to private funds with less than $150 million in assets under management in the United States. As a result of the Dodd-Frank Act, many previously unregistered advisers to private funds are now required to register with the SEC or the states.

2011 Rules Implementing Dodd-Frank Act Amendments to the Investment Advisers Act- A Small Entity Compliance Guide

The Guide summarizes and explains rules adopted by the SEC, and states, in parts, the following. 

 

Since 1996, regulatory responsibility for investment advisers has been divided between the Commission and the states, primarily based on the amount of money an adviser manages for its clients. Under prior law, advisers generally could not register with the Commission unless they managed at least $25 million for their clients.

The Dodd-Frank Act raised the threshold for Commission registration to $100 million by creating a new category of advisers called "mid-sized advisers." A mid-sized adviser, which generally may not register with the Commission and is subject to state registration, is defined as an adviser that:

  • Manages between $25 million and $100 million for its clients;

  • Is required to be registered in the state where it maintains its principal office and place of business; and

  • Would be subject to examination by that state, if required to register.

 

Generally, these advisers will switch from registration with the Commission to registration with the states, but will continue to be subject to the Advisers Act's general anti-fraud provisions. Mid-sized advisers that advise a registered investment company or a business development company, however, will be required to remain registered with the Commission.

A mid-sized investment adviser must register with the Commission only if it has $110 million or more of assets under management, but once registered with the Commission, a mid-sized adviser need not withdraw its registration until it has less than $90 million of assets under management.

A mid-sized adviser “is not required to be registered” with a state if the adviser is exempt from registration or is excluded from the definition of investment adviser under the law of that state. A mid-sized adviser with its principal office and place of business in either New York or Wyoming is not “subject to examination.”
 

Advisers that do not have the required amount of assets under management register with the Commission if they meet the requirements of certain exemptions from the prohibition on Commission registration. The Commission amended three of the exemptions to reflect developments since their original adoption. The amendments:

  • Increase the required minimum value of plan assets for pension consultants from $50 million to $200 million.

  • Decrease the number of states in which a multi-state adviser otherwise must register from 30 states to 15 states.

 

OFAC Sanctions Programs and Other Lists​

OFAC’s sanctions programs are separate and distinct from, and in addition to, the AML requirements under the BSA. OFAC publishes lists of sanctioned countries and persons that are continually being updated. Its list of Specially Designated Nationals and Blocked Persons (SDNs) lists individuals and entities from all over the world whose property is subject to blocking and with whom U.S. persons cannot conduct business. OFAC also administers country-based sanctions that are broader in scope than the “list-based” programs.

In general, OFAC regulations require financial institutions to:

  • block accounts and other property or property interests of entities and individuals that appear on the SDN list and blocked persons or entities that are blocked by operation of law;

  • block accounts and other property or property interests of governments, other entities and individuals subject to blocking under OFAC country-based programs; and

  • reject prohibited, unlicensed trade and financial transactions, including those with OFAC-sanctioned countries.

Financial institutions must report all blockings and rejections of prohibited transactions to OFAC within 10 days of their being identified and annually. In addition to the blocking sanctions described above, OFAC maintains several sanctions programs that prohibit U.S. persons, including broker-dealers, from dealings in equity and debt of, and extension of credit to, certain sanctions targets. OFAC has the authority to impose substantial civil penalties administratively. To guard against engaging in OFAC prohibited transactions, one best practice that has emerged entails “screening against the OFAC list.” OFAC has stated that it will take into account the adequacy of a firm’s OFAC compliance program when it evaluates whether to impose a penalty if an OFAC violation has occurred.

Firms should be aware of other lists, such as the Financial Action Task Force (“FATF”) publications that identify “high risk and other monitored jurisdictions” which lists countries with weak measures to combat money laundering and terrorist financing. If transactions originate from or are routed to any FATF-identified countries, it might be an indication of suspicious activity.

Blue Sky Laws

 

State laws governing the issuance and registration of securities within that state. Blue sky laws contain registration requirements and anti-fraud provisions. Investment funds and most other private placement issuers rely on exemptions from the registration requirements of state law, most often Regulation D Rule 506. Even with the registration exemption, Regulation D issuers must still file a Form D notice filing and pay a state statutory fee in each state where investors have subscribed. This notice filing is often referred to as a “blue sky” filing.

New York does not require IAR (investment adviser registration) if the adviser has five or fewer New York-based clients (funds or individuals). If the investment adviser controls between $25,000,000 and $100,000,000 AUM–the investment manager is prohibited from registering with the SEC if such adviser is required to be registered as an investment adviser with their home state and is “subject to examination” in its home state.

The SEC has explained in the Rules Implementing Dodd-Frank Act Amendments to the Investment Advisers Act (see section above) that advisers will not be “subject to examination” in the state of New York, thus advisers controlling between $25,000,000 and $100,000,000 AUM with their principal place of business in New York will be required to register with the SEC, unless exempt from registration.

The Private Funds Exemption applies to advisers to qualifying private funds whose AUMs are less than $150,000,000. Such investment advisers are not required to register with the SEC but must file reportings as an Exempt Reporting Adviser (ERA).

 

Other states, including Michigan, Virginia, Texas, California, and more, would limit the fund to accepting LP's strictly from the pool of Qualified Investors.

The Howey Test: SEC v. W.J. Howey Co

 

The Howey Test emerged from a court case and is used to determine whether an asset is a security, amounting to an “investment contract.” Under the test, the attributes of an investment contract are:

 

(i) an investment of money,

(ii) in a common enterprise, 

(iii) in which the investor is led to expect profits,

(iv) derived from the entrepreneurial or managerial efforts of one or more third parties.

 

It is irrelevant whether the enterprise is speculative or non-speculative, or whether there is a sale of property with or without intrinsic value. In short, The Howey Test focuses on the general economic perception of the arrangement in question.

The Howey Test was first applied to digital assets by the SEC in July 2017. SEC has concluded that the sale of Decentralized Autonomous Organization tokens (DAO tokens), a digital asset, was an unregistered securities offering, and the exemption from Section 5 of the Securities Act of 1933 (the Securities Act) was not applicable. 

 

The Munchee Order 

In its first direct enforcement action relating to the sale of digital assets, on December 11, 2017, the SEC initiated a cease-and-desist proceedings against Munchee Inc.’s sale of tokens, concluding that the sale was an unregistered securities offering. The takeaway from the Munchee Order is that despite the utility value of the MUN Tokens, the mode and the wording of the offering to prospective investors, and the investment intent of participating investors, constituted offering a securities, subject to the US securities laws.

 

Gary Plastic Packaging v. Merrill Lynch, Pierce, Fenner, & Smith Inc. 

 

In June 2018, William Hinman, Director of the SEC’s Division of Corporation Finance, gave a speech titled “Digital Asset Transactions: When Howey Met Gary (Plastic),” stating that digital assets need not always be securities. Rather, in addition to the underlying rights associated with such assets, the manner of sale and the reasonable expectations of the purchasers determine whether a digital asset is a security, citing Gary Plastic Packaging v. Merrill Lynch, Pierce, Fenner, & Smith Inc. In this case the court found that an offering of a certificate of deposit, which in and of itself is not a security, was subject to securities laws because the issuer’s marketing had been focused on the establishment of a secondary market and the opportunity for purchasers to profit from the enterprise.

 

In the case of digital tokens sold in an offering by promoters to “develop the enterprise,” such most often would amount to securities due to the entrepreneurial efforts of the enterprise’s promoters. It was important that Director Hinman clarified that transactions involving digital assets on a sufficiently decentralized network do not otherwise have the indicia of securities transactions and do not give rise to the public policy concern of informational asymmetries between an investor and issuer, and thus may not  trigger the application of US federal securities laws.

 

Director Hinman reiterated these ideas in a May 2019 speech, stating that a potential pathway exists for a token that was once a security to transmute into a non-security. In a February 2020 speech, Commissioner Peirce proposed a token safe harbor, which would provide network developers with a three-year  grace period to achieve sufficient decentralization for their network following the issuance  of unregistered tokens. Although still a proposal, it is nevertheless a positive development  for such a discussion to be taking place. 

2019 SEC Framework for ‘Investment Contract' Analysis of Digital Assets”

In April 2019, the SEC issued a “Framework for ‘Investment Contract’ Analysis of  Digital Assets” (the Framework) to assist market participants to assess whether a digital asset constitutes an investment contract/security. In the absence of robust regulation and case law, The Framework now is the major reference for analyzing whether a digital asset constitutes a security. 

To determine “reliance on the efforts of others,” the Framework introduces the definition of an Active Participant (AP):

 

a promoter, sponsor, or other third party … [that]  provides essential managerial efforts that affect the success of the enterprise, and investors  reasonably expect to derive profit from those efforts.

 

This requires an analysis of all party’s roles in developing, maintaining, controlling, influencing or governing the network. The existence of an AP means it is more likely that the reasonable expectations of profits are reliant on managerial efforts of others. 

To analyze “reasonable expectation of profit,” the Framework suggests a language of whether an asset conveys the “right to share in [an] enterprise’s income.” This follows the reasoning in the DAO Report, which analyzed the dividend-like feature of DAO tokens in classifying them as securities.

 

The Framework also looks at whether “the digital asset is offered broadly” (e.g., via secondary markets) “to potential purchasers as compared to being targeted to expected users of the goods or  services or those who have a need for the functionality of the network,” and whether “[t]he AP continues to expend funds from proceeds or operations to enhance the functionality or value of the network or digital asset.”

 

This focuses on whether the success of the project depends on the capital raised through the issuance. The Framework looks also at whether the AP will receive or retain any of the digital assets, and the investors’ expectations regarding the role of the AP.  

 

2019 (updated in 2021) FATF Guidance for a Risk-Based Approach to Virtual Assets and Virtual Asset Service Providers

In October 2018, the FATF adopted changes to its Recommendations to explicitly clarify that they apply to financial activities involving virtual assets, and also added two new definitions in the Glossary, “virtual asset” (VA) and “virtual asset service provider” (VASP).

 

The amended FATF Recommendation 15 requires that VASPs be regulated for anti-money laundering and combating the financing of terrorism (AML/CFT) purposes, licenced or registered, and subject to effective systems for monitoring or supervision. In June 2019, the FATF adopted an Interpretive Note to Recommendation 15 to further clarify how the FATF requirements should apply in relation to VAs and VASPs, in particular with regard to the application of the risk-based approach (RBA) to VA activities or operations and VASPs; supervision or monitoring of VASPs for AML/CFT purposes; licensing or registration; preventive measures, such as customer due diligence, recordkeeping, and suspicious transaction reporting, among others; sanctions and other enforcement measures; and international co-operation.

 

The FATF originally published this Guidance in June 2019 when the FATF finalised changes to its Standards to clearly place anti-money laundering and countering the financing of terrorism (AML/CFT) obligations on VAs and VASPs. It is intended to guide both national authorities in understanding and developing regulatory and supervisory responses to VA activities and VASPs, and to help private sector entities seeking to engage in VA activities, in understanding their AML/CFT obligations and how they can effectively comply with these requirements.

 

This Guidance outlines the need for countries and VASPs, and other entities involved in VA activities, to understand the ML/TF risks associated with their activities and take appropriate mitigating measures to address them. In particular, the Guidance provides examples of risk indicators that should specifically be considered in a VA context, with an emphasis on factors that would further obfuscate transactions or inhibit VASPs’ ability to identify customers.

The revised in 2021 document provides updated guidance in six main areas to

(1) clarify the definitions of VA and VASP to make clear that these definitions are expansive and there should not be a case where a relevant financial asset is not covered by the FATF Standards (either as a VA or as a traditional financial asset),

(2) provide guidance on how the FATF Standards apply to so-called stablecoins,

(3) provide additional guidance on the risks and potential risk mitigants for peer-to-peer transactions,

(4) provide updated guidance on the licensing and registration of VASPs,

(5) provide additional guidance for the public and private sectors on the implementation of the ‘travel rule’,

(6) include Principles of Information-Sharing and Co-operation Amongst VASP Supervisors. 

2019 The Turnkey No-Action Letter

The Turnkey Letter was issued in response to a proposed token offering by TurnKey Jet, Inc. (Turnkey Jet), an air carrier and air taxi service.

 

2019 The PoQ No-Action Letter 

 

The PQ letter letter was issued in response to Pocketful of Quarters, Inc.’s (PoQ) proposed token offering.

 

The Framework, Turnkey Letter, and PoQ Letter state that the analysis of whether a digital asset constitutes an investment contract should rely on the third and fourth prongs of the Howey Test; specifically, whether the investors have an expectation of profits that will be derived from the managerial efforts of a third party or parties.

SEC v. Kik Interactive, Inc

In June 2019, the SEC sued Kik Interactive Inc. (Kik) for allegedly conducting an illegal $100 million securities offering of Kik’s digital token, Kin. SEC press release explained:

 

As alleged in the SEC’s complaint, Kik had lost money for years on its sole product, an online messaging application, and the company’s management predicted internally that it would run out of money in 2017.  In early 2017, the company sought to pivot to a new type of business, which it financed through the sale of one trillion digital tokens.  Kik sold its “Kin” tokens to the public, and at a discounted price to wealthy purchasers, raising more than $55 million from U.S. investors.  The complaint alleges that Kin tokens traded recently at about half of the value that public investors paid in the offering.

The complaint further alleges that Kik marketed the Kin tokens as an investment opportunity.  Kik allegedly told investors that rising demand would drive up the value of Kin, and that Kik would undertake crucial work to spur that demand, including by incorporating the tokens into its messaging app, creating a new Kin transaction service, and building a system to reward other companies that adopt Kin.  At the time Kik offered and sold the tokens, the SEC alleges these services and systems did not exist and there was nothing to purchase using Kin.  Kik also allegedly claimed that it would keep three trillion Kin tokens, Kin tokens would immediately trade on secondary markets, and Kik would profit alongside investors from the increased demand that it would foster. 

 

“Kik told investors they could expect profits from its effort to create a digital ecosystem,” said Robert A. Cohen, Chief of the Enforcement Division’s Cyber Unit.  “Future profits based on the efforts of others is a hallmark of a securities offering that must comply with the federal securities laws.” SEC stated:

The SEC’s complaint charges Kik Interactive Inc. with violating the registration requirements of Section 5 of the Securities Act of 1933. The SEC seeks a permanent injunction, disgorgement plus interest, and a penalty.  The Commission has previously charged issuers in settled cases alleging violations of these requirements, including Munchee Inc., Gladius Network LLCParagon Coin Inc. and CarrierEQ Inc. d/b/a Airfox

 

The SEC’s investigation was conducted by Brent Mitchell, Jeff Leasure, and James Murtha of the SEC’s Complex Financial Instruments Unit and supervised by Mr. Cohen and Reid Muoio, Deputy Chief of the unit.  The litigation will be handled by David Mendel and Stephan Schlegelmilch.  The SEC appreciates the assistance of the Ontario Securities Commission.

In a press release, Kik responded that the SEC’s complaint is based on “flawed legal theory” and expands the Howey Test beyond its proscribed limits: 

 

The complaint assumes, incorrectly, that any discussion of a potential increase in value of an asset is the same as offering or promising profits solely from the efforts of another; that having aligned incentives is the same as creating a ‘common enterprise’; and that any contributions by a seller or promoter are necessarily the [‘]essential[’] managerial or entrepreneurial efforts required to create an investment contract. 

 

2020 SEC v. Telegram Group Inc. and TON Issuer Inc.

On October 11, 2019 The Securities and Exchange Commission filed an emergency action and obtained temporary restraining order against two offshore entities conducting an alleged unregistered, ongoing digital token offering in the U.S. and overseas that has raised more than $1.7 billion of investor funds.

According to the SEC’s complaint, Telegram Group Inc. and its wholly-owned subsidiary TON Issuer Inc. began raising capital in January 2018 to finance the companies’ business, including the development of their own blockchain, the “Telegram Open Network” or “TON Blockchain,” as well as the mobile messaging application Telegram Messenger. Defendants sold approximately 2.9 billion digital tokens called “Grams” at discounted prices to 171 initial purchasers worldwide, including more than 1 billion Grams to 39 U.S. purchasers. Telegram promised to deliver the Grams to the initial purchasers upon the launch of its blockchain, at which time the purchasers and Telegram will be able to sell billions of Grams into U.S. markets. 

“Our emergency action today is intended to prevent Telegram from flooding the U.S. markets with digital tokens that we allege were unlawfully sold,” said Stephanie Avakian, Co-Director of the SEC’s Division of Enforcement. “We allege that the defendants have failed to provide investors with information regarding Grams and Telegram’s business operations, financial condition, risk factors, and management that the securities laws require.”

In June 2020, the SEC announced a settlement with  Telegram Group Inc. 

 

Prior to the settlement, the Court in the Southern District of New  York had held that Telegram’s scheme constituted an investment contract, requiring either registration or an applicable exemption in order to comply with securities laws. As part of the settlement, Telegram returned $1.2 billion to the initial purchasers and paid an $18.5 million penalty. The Court wrote: 

Cryptocurrencies (sometimes called tokens or digital assets) are a lawful means of storing  or transferring value and may fluctuate in value as any commodity would. In the abstract, an investment of money in a cryptocurrency utilized by members of a decentralized  community connected via blockchain technology, which itself is administered by this community of users rather than by a common enterprise, is not likely to be deemed a  security under the familiar test laid out in [Howey]. The SEC, for example, does not contend that Bitcoins transferred on the Bitcoin blockchain are securities.” 

SEC's Anti-Money Laundering (AML) Source Tool for Broker-Dealers

This research guide, or “source tool,” is a compilation of key AML laws, rules, orders, and guidance. Several statutory and regulatory provisions, and related rules of the securities self-regulatory organizations (SROs), imposing AML obligations, and a wealth of related AML guidance materials is available on the SEC website. To aid research efforts into AML requirements and to assist crypto hedge funds with AML compliance, this source tool organizes key AML compliance materials and provides related source information.

The following topics are addressed in this guide:

  1. The Bank Secrecy Act

  2. The USA PATRIOT Act

  3. AML Programs

  4. Customer Identification Programs

  5. Beneficial Ownership

  6. Correspondent Accounts: Prohibition on Foreign Shell Banks and Due Diligence Programs

  7. Due Diligence Programs for Private Banking Accounts

  8. Suspicious Activity Monitoring and Reporting

  9. Other BSA Reports

  10. Records of Funds Transfers

  11. Information Sharing With Law Enforcement and Financial Institutions

  12. Special Measures Imposed by the Secretary of the Treasury

  13. Office of Foreign Asset Control (OFAC) Sanctions Programs and Other Lists

  14. Selected Additional AML Resources

  15. Useful Contact Information

See here 2021-2024 Update

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